Stock-bond correlation - Bouncing between safety and inflation stories

 

The stock-bond correlation is critical for asset diversification. No other relationship has been as important to investors, yet it has been switching from negative to positive and back again to negative. The rolling 60-day chart tells story facing investors. 

Where will it move to next? The chart from D E Shaw discussing the four scenarios that will drive the relationship between positive and negative. Shifts in inflation expectations and the monetary policy reaction function will lead to a positive relationship while shifts in growth and risk appetite will lead to negative correlation.

We are facing a fight between the positive and negative relationships. The flight to quality with the Ukraine War and the threat of recession are forcing the relationship to be negative. These two have dominated inflation and monetary policy in the short run; however, inflation and monetary policy may reassert itself based on Fed policy hesitancy and further inflation increases.